Blue states have a SALT problem

There was grim news out of Washington for high-income earners in California, as talks over increasing the deductibility of state and local taxes, known as the SALT deduction, have reportedly failed to produce an agreement.

What this means is that Californians who itemize deductions on their tax returns will continue to feel the full pain of high state and local taxes. They’ll be unable to deduct the exorbitant amounts they pay on their federal tax returns. “Don’t worry, it’s deductible,” is no longer an answer to the question, “Aren’t you concerned that California has the highest state income tax rates in the nation?”

Prior to 2017, there was no limit on the deductibility of state and local taxes, so high-earning residents of high-tax states such as California, New York and New Jersey were cushioned against the worst impacts by the federal tax break. However, that changed with the Tax Cuts and Jobs Act, signed into law by President Donald Trump in the first year of his administration. The law capped the deduction for state and local taxes at $10,000.

In states with no income tax, such as Texas and Florida, this had little to no impact. But in California, with a top marginal income tax rate of 13.3%, capital gains taxed as ordinary income, and significant property tax bills based on the purchase price of property, the $10,000 cap was easily exceeded.

This put key Democratic lawmakers, including California’s own Nancy Pelosi, in the awkward position of arguing that the Trump tax law was too harsh on wealthy taxpayers.

That argument is still going on in the Democratic party. After President Joe Biden’s “Build Back Better” legislation failed in the Senate, negotiations to bring at least part of it back to life are continuing. The SALT deduction has been a point of contention in these talks. Sen. Bernie Sanders, I-Vermont, and Sen. Bob Menendez, D-New Jersey,  had discussions about lifting the $10,000 limit or adding an income-based exemption that would protect middle-class taxpayers who have been slammed by the loss of the deduction.

However, the talks between Sanders and Menendez have broken down completely and the two are now “at odds,” according to a report in the Capitol Hill newspaper Roll Call. Sanders considers the SALT deduction a giveaway to the rich.

And it is.

The SALT deduction is a tax break for high-earning individuals who indulge the progressive, big-spending plans of state and local officials in states including California. It reduces the price tag a bit for these taxpayers, who otherwise might think about pushing back on higher taxes for the wealthy.

As a matter of fact, several proposals for higher taxes on the wealthy have languished in the California legislature since the SALT cap went into effect, to the frustration of progressive activists.

But wealthy taxpayers who tire of high taxes in California can relocate to any of 49 other states and have lower tax bills. Because California’s income tax rates soak the rich, the departure of a significant number of those taxpayers would leave a crater-sized hole in the state’s general fund.

So state lawmakers may want to reconsider their tax policies and look at ways to help businesses large and small become more profitable here in California. Asking Uncle Sam for a bailout can’t be the solution to every problem.